Empowering Economic Minds
The Production Possibility Frontier
The Production Possibility Frontier
Imagine this: You're marooned on a desert island with coconuts and fish to your name. It sounds like the premise of some horrible reality TV show, but just go with it here.
Now, you've got a limited amount of time and energy each day. You can spend it all catching fish, or climbing trees for coconuts, or some of both. That is your PPF in a nutshell: that is all it is—what you can make with what you have.
Say you can either catch 10 fish a day or gather 50 coconuts. But here's the rub— you can also mix it up. Maybe 5 fish and 25 coconuts. Or 2 fish and 40 coconuts. You get the idea? That's your PPF curve. It's like a menu of your production options.
In a nutshell, the Production Possibilities Frontier is the graph which indicates the various production possibilities of two commodities when resources are fixed. The production of one commodity can only be increased by sacrificing the production of the other commodity. It is also called the production possibility curve or product transformation curve.
Now, if you are really lazy and only catch 3 fish and grab 10 coconuts, you are slackering. You are inside your PPF. You could be doing more with your time, but maybe you decided you needed to work on your tan instead.
Let's say that in a day, you want to catch 20 fish and gather 100 coconuts. Well, sorry mate, that lies outside of your PPF. Unless you learn how to clone yourself or create a coconut-picking, fish-catching robot, that's not gonna happen.
Now, this is where it gets interesting. What if you discover some really efficient fishing rod or a coconut-picking technique? Bam! The whole PPF shifts outwards. All of a sudden, you can produce more of everything. That is like leveling up in the real world—it's called economic growth.
Now, this is where it gets painful. Everything has an opportunity cost. If you want to catch one more fish, you may have to give up gathering five coconuts. That is opportunity cost in a nutshell. It is literally saying, "Is this fish worth five coconuts to me?" It's all about choices.
Yes, this does occur in the real world. Countries are constantly balancing production for the present—for instance, making phones and cars—with production for the future—for instance, building factories and roads. Not exactly coconuts and fish, but you get the idea.
So next time you hear about the debate of some country deciding between building more schools or hospitals, and a company between launching a new product or upgrading equipment, think about your desert island—each walking on their PPF tightrope, trying to make as much of what they have got.
That, my friend, is what a Production Possibilities Frontier is, without all the economics mumbo-jumbo: just maximize what you have and know there's opportunity cost to every decision. Simple as that!
Comparative Advantage and Making the PPF
Let’s go back to the example of coconuts and fish while being marooned on an island. Let us consider the possible combination of coconuts and fish that you can gather based on the example.
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We can create our Production Possibilities Frontier by plotting all the combinations in a given graph. In our example, the PPF showcases the trade-offs between coconuts in the x-axis, and the fishes in the y-axis.
At Point A, you are dedicating all your time and resources to gathering coconuts, resulting in the maximum possible number of coconuts (50) but no fish.
At Point B, you gather slightly fewer coconuts (40) to allocate some resources to catching fish, resulting in 2 fish.
Meanwhile, Point C shows a further trade-off, with you gathering fewer coconuts (30) but increasing the fish catch to 4. Focusing on fish gathering to 4 fish per day from 2 fish per day requires a reduction in coconut gathering to 30 coconuts per day from 40 coconuts per day.
The slope equals -1/10 fish per coconut. Therefore, gathering 2 additional fish at point C requires giving up 10 pairs of coconuts. We can think of this as the opportunity cost of gathering an additional coconut. This opportunity cost equals the absolute value of the slope of the production possibilities curve.
At Point D, you get an equal balance between the two activities and gather 20 coconuts while catching 6 fish. Finally, Point F, you dedicate all efforts to catching fish, resulting in the maximum possible number of fish (10) but no coconuts.
Each point represents a different allocation of time and resources between the two activities. As more resources are allocated to one good, fewer resource is available for the other, demonstrating the trade-off. The extremes of the table (Points A and F) represent the maximum possible output of each good when all resources are devoted to producing only one good.
Based on the example, we can surmise the opportunity cost of producing one more unit of the good on the horizontal axis is equal to the absolute value of the slope of any production possibilities curve. This represents the amount of the good on the vertical axis that must be sacrificed to free up resources to produce one additional unit of the good on the horizontal axis.
Now let us consider another example. Let us consider three countries producing 2 different kinds of goods: apples and oranges. Their production combination is given by the table below:
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Country A's PPF is relatively linear, indicating a constant opportunity cost. The line slopes downward, showing that as apple production increases, orange production decreases at a consistent rate. The slope of the PPF suggests that for every 2-unit increase in apple production, orange production decreases by 2 units. This indicates a constant opportunity cost of 1 orange per apple.
Meanwhile, Country B's PPF is also linear but steeper than that of Country A. This line indicates a constant opportunity cost but with a different rate of trade-off. For every 2-unit increase in apple production, orange production decreases by 4 units. This indicates a constant opportunity cost of 2 oranges per apple. Country B can produce more oranges relative to apples compared to Country A, reflecting a comparative advantage in orange production.
On the other hand, Country C's PPF is linear but steeper than both Country A and B. The steeper slope indicates a higher opportunity cost for producing apples. For every 1-unit increase in apple production, orange production decreases by 4 units. This indicates a constant opportunity cost of 4 oranges per apple. Country C is highly efficient in producing oranges compared to apples.
The PPF illustrate the different production capabilities and efficiencies of the three countries. Specialization based on comparative advantage would lead to more efficient production and potential gains from trade:
Country A: 1 orange per apple
Country B: 2 oranges per apple
Country C: 4 oranges per apple
Country A can maintain a balanced production or specialize based on market demands.
Country B and Country C should specialize in producing oranges due to their lower opportunity costs compared to apples and trade with Country A to maximize overall production efficiency and consumption possibilities.
We also see that the slopes of the production possibilities curves for each country differ. The steeper the curve, the greater the opportunity cost of an additional apple. More generally, the absolute value of the slope of any production possibilities curve at any point gives the opportunity cost of an additional unit of the good on the horizontal axis, measured in terms of the number of units of the good on the vertical axis that must be forgone.
The greater the absolute value of the slope of the production possibilities curve, the greater the opportunity cost will be. The country for which the opportunity cost of an additional apple is greatest is the country with the steepest production possibilities curve while the country for which the opportunity cost is lowest is the one with the flattest production possibilities curve.
Economists say that an economy has a comparative advantage in producing a good or service if the opportunity cost of producing that good or service is lower for that economy than for any other. In our example, we can determine that Country A has the lowest opportunity cost for producing apples, at 1 orange per apple, indicating that it sacrifices fewer resources to produce apples compared to the other countries. Consequently, Country A holds a comparative advantage in apple production.
Conversely, Country C demonstrates the lowest opportunity cost for producing oranges, at 0.25 apples per orange (or 4 oranges per apple when viewed inversely). This low opportunity cost implies that Country C sacrifices fewer resources to produce oranges, making it the most efficient producer of oranges among the three countries. Therefore, Country C has a comparative advantage in producing oranges.
Conclusions
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The Production Possibilities Frontier (PPF) is a graphical representation of the trade-offs and opportunity costs in production. It highlights the efficient use of resources and the potential for economic growth.
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Comparative advantage leads to more efficient global production and trade.
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Specialization and trade based on comparative advantage can increase overall economic welfare.
Guide Questions
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What does a point inside the PPF curve indicate about resource utilization?
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How can technological advancements affect a country's PPF?
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How does comparative advantage differ from absolute advantage in international trade?
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Why is it beneficial for countries to specialize in goods for which they have a comparative advantage?
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How does the slope of the PPF curve reflect the opportunity cost between two goods?
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What are the implications of a country having a steeper PPF slope compared to another?
References
Hofstrand, D. (2020). Opportunity Cost. Iowa State University.
Library of Economics and Liberty. (2024). Scarcity. Econlib.
https://www.econlib.org/library/Topics/College/scarcity.html
National Geographic Society. (2023). Scarcity. National Geographic Society. https://education.nationalgeographic.org/resource/scarcity
O’Connell, B. (2021, March 29). The True Cost Of Investing: Opportunity Cost. Forbes Advisor. https://www.forbes.com/advisor/investing/opportunity-cost/
University of Minnesota Libraries. (2016). 2.2 The Production Possibilities Curve. https://open.lib.umn.edu/principleseconomics/chapter/2-2-the-production-possibilities-curve/